The Power of Section 125

Section 125 of the Internal Revenue Code, enacted by Congress in 1978, allows companies to give their employees the opportunity to pay for benefits on a pretax basis. Pretax benefits lower payroll-related taxes for both the employer and employees.

Section 125 offers several alternatives: three of the most common are Premium Only Plans, Flexible Spending Accounts and Cafeteria Plans.

Premium Only Plans: This alternative is the most basic use of Section 125. Employees can pay for benefits on a pretax basis, thus lowering their taxable income and tax liability.

Flexible Spending Accounts: Spending Accounts are a means for employees to pay for certain out-of-pocket health care or dependent care costs on a pretax basis.

Cafeteria Plans: This alternative gives employers the opportunity to gain control over their benefit expenditures through a "cafeteria" or menu-like plan.

A Cafeteria Plan is the most complex alternative because it changes the way employees receive benefits. Instead of providing a determined set of benefits (such as a medical plan and $50,000 of life insurance), each employee is given an amount of "benefit dollars" roughly equal to the employer's expenditure for that person's benefits. The employee then chooses from a menu of benefits and determines those that best fit his or her needs. Of course, the employer determines the available options.

Although a Cafeteria Plan is more expensive to implement, employers ultimately save money through the more efficient plan design, as well as the tax-effective and cost effective vehicles of delivery.

A Health Care Spending Account (HCSA) is used to pay for almost any genuine medical expense not covered by a group plan (either medical, dental or vision).

A Dependent Care Spending Account (DCSA) is used to pay for those costs of dependent day care that enable the employee to work. This care may be for a child under the age of 13 or a spouse or other adult dependent who is incapable of self care. (See IRS FAQ Child and Dependent Care Credit & Flexible Benefit Plans )

For either of these Spending Accounts, the employee contributes a predetermined amount through regular pretax salary reductions. For DCSA, the employee is reimbursed for all expenses up to the amount he or she has deposited. In the case of HCSA, an employee is reimbursed up to their annual election for the plan year.

Planning is the key: unused employee contributions are forfeited and revert to the employer to offset administrative costs or are given back to participants on a per-capita basis.

Universal appeal. Section 125 is for every company that wants to:

New benefits. Employees can be given new benefits choices, such as the opportunity to have a Health Care and/or Dependent Care Spending Account.

Employers can also implement a means for employees to make any contributions to their coverage on a pretax basis merely by adopting a plan document that allows for this feature.

Tax savings. Both employees and employers save on taxes and therefore increase their spendable income.

Employees reduce taxes because the pretax contributions toward premiums or Spending Accounts are not subject to federal, state, or social security taxes. Employees save from $.25 to $.50 in taxes for every dollar they contribute.

Employers save on the employer portion of FICA, FUTA, SUTA and Workers' Compensation premiums.

Benefit enhancements. Employees receive benefit improvements at a time when such improvements are unlikely, due to cost pressures.

Employer appreciation. Employers experience a renewed appreciation from their employees. The company, in effect, is giving the employee a "raise" without the cost of the raise coming from the employer.

No. One of the best things about Section 125 is that the company does not need to modify its current program. The addition of Section 125 is an enrichment, not a change. Many employers find, however, that implementing the program provides an excellent opportunity to make benefits plan changes that meet total compensation goals.

The success of a flexible benefits plan depends on the ability to administer the plan. Plans that provide for pretax employee contributions require a plan document. Our administrative system is designed to allow for easy information management. The system handles enrollment, account reporting, account reconciliation, check writing and many fund management functions.

When WageWorks, formerly Creative Benefits, handles the administration, we process all claims, write and mail the checks (to client or employee, as desired), keep the claim records current and on file, make monthly and quarterly reports to the company, and maintain a fast turnaround of claims.

Very little. For most employers, the cost of implementing a Section 125 plan is recovered through tax savings during the first year. You can begin saving money as early as next month with the installation of a Premium Only plan. We provide the plan document, camera-ready newsletter, and enrollment form.

Contact us at 888-295-5959 extension 221 or e-mail Proposal. As soon as you let us know, we will begin to prepare the documents, systems and communications pieces for you. We can also help you set dates for employee meetings and implementation.